The rules, with sources
| Step | OZ 1.0: invested on or before Dec 31, 2026 | OZ 2.0: invested after Dec 31, 2026 |
|---|---|---|
| Inclusion date | Earlier of a sale or Dec 31, 2026 (§1400Z-2(b)(1), text in effect for these investments; Treas. Reg. §1.1400Z2(b)-1(b)) | Earlier of a sale or 5 years after the investment (§70421(c)(2), new §1400Z-2(b)(1)) |
| Starting basis | Zero, plus any step-up (§1400Z-2(b)(2)(B)(i), same in both versions) | |
| Step-up | +10% of deferred gain at 5 years, +5% more at 7 years (§1400Z-2(b)(2)(B)(iii)-(iv)); only reachable by Dec 31, 2026 for investments made by 2021 (5 years) or 2019 (7 years) | +10% at 5 years, +30% for a qualified rural opportunity fund, treated as occurring before the 5-year inclusion date (new §1400Z-2(b)(2)(B)(iii)(I)-(II); rural fund defined in (b)(2)(C)) |
| Amount included | (Lesser of the deferred gain or the investment's fair market value on the inclusion date) minus basis (§1400Z-2(b)(2)(A); Treas. Reg. §1.1400Z2(b)-1(e)(3) for Dec 31, 2026). Basis then rises by the gain included (§1400Z-2(b)(2)(B)(ii)). | |
| 10-year exclusion | Held 10+ years and elect: basis = fair market value on the date of sale (§1400Z-2(c)). The regulation's protection after zones expire doesn't apply to sales after Dec 31, 2047 (Treas. Reg. §1.1400Z2(c)-1(c)) | Held 10+ years and elect: basis = fair market value at sale if sold before the 30-year date; otherwise fair market value on the 30-year date (§70421(c)(3), new §1400Z-2(c)(A)-(B)) |
The statute's OZ 2.0 step-up text: "In the case of any investment held for at least 5 years, the basis of such investment shall be increased by an amount equal to 10 percent (30 percent in the case of any investment in a qualified rural opportunity fund) of the amount of gain deferred" (P.L. 119-21, §70421(c)(2)).
Worked examples
All use a $500,000 deferred long-term gain, 6% annual growth and 23.8% federal rates (20% under IRC §1(h)(1)(D) plus 3.8% NIIT under §1411).
1. OZ 2.0, invested February 1, 2027, held 10 years
- Inclusion February 1, 2032: the investment is worth $500,000 × 1.06⁵ = $669,113, so the full $500,000 counts; minus the 10% step-up ($50,000) = $450,000 included, $107,100 tax, due April 15, 2033. The step-up saves $11,900.
- Basis is now $50,000 + $450,000 = $500,000. At sale on February 1, 2037 the investment is worth $500,000 × 1.06¹⁰ = $895,424. With the election, the $395,424 of appreciation is excluded (about $94,111 of tax not paid).
- After both taxes: $895,424 − $107,100 = $788,324. Paying $119,000 now and investing $381,000 at 6% gives $682,313 before tax and $610,600 after 23.8% on the growth, so the QOF comes out about $177,723 ahead (nominal, no discounting).
- In a qualified rural fund, the 30% step-up means $350,000 is included and $83,300 is due.
2. OZ 1.0, invested November 1, 2026, held 10 years
The full $500,000 is included on December 31, 2026, with no step-up, so $119,000 is due with the 2026 return on April 15, 2027. The sale on November 1, 2036 is before December 31, 2047, so with the election the same $395,424 of appreciation is excluded. After-tax value: $895,424 − $119,000 = $776,424.
3. OZ 2.0, held only 7 years
Inclusion and step-up are the same as example 1, but with no 10-year election the growth is taxed: $500,000 × 1.06⁷ = $751,815, minus the $500,000 basis = $251,815 taxable at sale ($59,932 tax).